FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (Mark One) [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 1996 -------------------- OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ------------ ------------- Commission file number 0-9165 ------ STRYKER CORPORATION -------------------------- (Exact name of registrant as specified in its charter) Michigan 38-1239739 - ------------------------------- ----------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) P.O. Box 4085, Kalamazoo, Michigan 49003-4085 - --------------------------------------- ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (616) 385-2600 -------------- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. 96,748,533 shares of Common Stock, $.10 par value, as of October 25, 1996. PART I - FINANCIAL INFORMATION ITEM I. FINANCIAL STATEMENTS <TABLE> CONDENSED CONSOLIDATED BALANCE SHEETS STRYKER CORPORATION AND SUBSIDIARIES (UNAUDITED) September 30 December 31 1996 1995 -------- -------- ASSETS (in thousands) CURRENTS ASSETS <S> <C> <C> Cash and cash equivalents $114,258 $ 69,049 Marketable securities 135,925 195,599 Accounts receivable, less allowance of $7,600 (1995 - $7,800) 168,842 163,593 Inventories 152,078 133,619 Deferred income taxes 51,000 47,058 Prepaid expenses and other current assets 13,678 14,335 -------- -------- TOTAL CURRENT ASSETS 635,781 623,253 PROPERTY, PLANT AND EQUIPMENT, less allowance for depreciation 188,478 182,592 OTHER ASSETS 86,192 49,046 -------- -------- $910,451 $854,891 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable $ 45,283 $ 49,029 Accrued compensation 35,447 32,447 Income taxes 28,623 25,633 Accrued expenses and other liabilities 72,083 64,277 Current maturities of long-term debt 1,315 3,052 -------- -------- TOTAL CURRENT LIABILITIES 182,751 174,438 LONG-TERM DEBT, excluding current maturities 96,641 96,967 OTHER LIABILITIES 22,306 24,214 MINORITY INTEREST 98,547 104,993 STOCKHOLDERS' EQUITY Common stock, $.10 par value: Authorized - 150,000 shares Outstanding - 96,742 shares (1995-97,107) 9,674 9,711 Additional paid-in capital 4,497 14,736 Retained earnings 493,197 419,537 Unrealized gains on securities 435 2,314 Foreign translation adjustments 2,403 7,981 -------- -------- TOTAL STOCKHOLDERS' EQUITY 510,206 454,279 -------- -------- $910,451 $854,891 ======== ======== See accompanying notes to condensed consolidated financial statements. </TABLE> <TABLE> CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS STRYKER CORPORATION AND SUBSIDIARIES (UNAUDITED) Three Months Ended Nine Months Ended September 30 September 30 1996 1995 1996 1995 -------- -------- -------- -------- (in thousands, except per share amounts) <S> <C> <C> <C> <C> Net Sales $223,587 $205,363 $666,623 $647,885 Costs and expenses: Cost of sales 94,360 88,753 276,055 273,985 Research, development and engineering 14,288 9,718 40,378 32,256 Selling, general and administrative 78,178 72,308 234,979 226,342 -------- -------- -------- -------- 186,826 170,779 551,412 532,583 -------- -------- -------- -------- OPERATING INCOME 36,761 34,584 115,211 115,302 Other income 2,234 1,365 6,607 3,742 -------- -------- -------- -------- EARNINGS BEFORE INCOME TAXES AND MINORITY INTEREST 38,995 35,949 121,818 119,044 Income taxes 14,820 14,380 46,290 49,280 -------- -------- -------- -------- EARNINGS BEFORE MINORITY INTEREST 24,175 21,569 75,528 69,764 Minority interest (25) (1,439) (1,868) (8,424) -------- -------- -------- -------- NET EARNINGS $ 24,150 $ 20,130 $ 73,660 $ 61,340 ======== ======== ======== ======== Net earnings per share of common stock $.25 $.21 $.76 $.64 Average outstanding shares for the period 96,700 96,998 96,862 96,894 See accompanying notes to condensed consolidated financial statements. </TABLE> In 1995 the Company declared a cash dividend of four and one-half cents per share (after the two-for-one stock split described in Note 4 to the condensed consolidated financial statements) to shareholders of record on December 29, 1995, payable on January 31, 1996. No cash dividends have been declared during 1996. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS STRYKER CORPORATION AND SUBSIDIARIES (UNAUDITED) <TABLE> Nine Months Ended September 30 1996 1995 -------- -------- (in thousands) OPERATING ACTIVITIES <S> <C> <C> Net earnings $ 73,660 $ 61,340 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation 18,595 17,018 Amortization 3,047 2,285 Minority interest 1,868 8,424 Changes in operating assets and liabilities, net of effects of business acquisitions: Accounts receivable (6,284) (4,860) Inventories (17,615) (8,193) Accounts payable (5,462) (4,250) Accrued expenses 9,595 3,503 Income taxes (1,356) (9,963) Other 2,427 (838) -------- -------- NET CASH PROVIDED BY OPERATING ACTIVITIES 78,475 64,466 INVESTING AND FINANCING ACTIVITIES Purchases of property, plant and equipment (20,301) (21,192) Sales and maturities (purchases) of marketable securities 59,674 (76,451) Business acquisitions, net of cash acquired (48,047) (12,815) Proceeds from (payments on) borrowings (3,262) 4,257 Dividends paid (4,370) (3,870) Proceeds from exercise of stock options 3,442 2,737 Repurchases of common stock (14,862) Other (5,008) 235 -------- -------- NET CASH USED IN INVESTING AND FINANCING ACTIVITIES (32,734) (107,099) Effect of exchange rate changes on cash and cash equivalents (532) 167 -------- -------- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS $ 45,209 $ (42,466) ======== ========= See accompanying notes to condensed consolidated financial statements. </TABLE> NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS STRYKER CORPORATION AND SUBSIDIARIES (UNAUDITED) 1. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements include all adjustments, consisting of normal recurring accruals, which the Company considers necessary for a fair presentation of the results of operations for the periods shown. The financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not include all information and footnotes necessary for a fair presentation of consolidated financial position, results of operations and cash flows in conformity with generally accepted accounting principles. The results of operations for any interim period are not necessarily indicative of the results to be expected for the full year. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 1995. 2. INVENTORIES <TABLE> Inventories are as follows (in thousands): September 30 December 31 1996 1995 -------- --------- <S> <C> <C> Finished goods $114,286 $105,209 Work-in-process 9,722 7,552 Raw material 35,814 28,602 -------- -------- FIFO Cost 159,822 141,363 Less LIFO reserve 7,744 7,744 -------- -------- $152,078 $133,619 ======== ======== FIFO cost approximates replacement cost. </TABLE> 3. BUSINESS ACQUISITIONS In September 1996, the Company purchased 100% of the outstanding stock of Osteo Holdings AG and its subsidiaries ("Osteo"), based in Selzach, Switzerland. Osteo designs and manufactures trauma products and reconstructive orthopaedic devices. The purchase price of Sfr 55 million ($45.5 million) was paid Sfr 50 million ($41.5 million) in cash with the remaining amount being paid ratably over a five year period. The acquisition was accounted for using the purchase method. The results of operations for Osteo are included in the Company's consolidated financial statements beginning September 1996. The incremental Osteo sales and net earnings in September 1996 did not have a material impact on the Company's sales and net earnings in the third quarter of 1996. During the first nine months of 1996, the Company's subsidiary, Physiotherapy Associates, Inc., purchased certain physical therapy clinic operations at an aggregate cost of $7.1 million. Intangible assets acquired in the above acquisitions, principally goodwill, are being amortized over periods ranging from five to fifteen years. Pro forma consolidated results for the nine months ended September 30, 1996 and 1995 were not materially different than the amounts reported. 4. STOCK SPLIT On April 24, 1996, the Company's Board of Directors approved a two-for-one stock split effective for shareholders of record on May 10, 1996. All share and per share data have been adjusted to reflect the stock split as though it had occurred at the beginning of the periods presented. 5. CONTINGENCY On September 25, 1996 the United States Court of Appeals for the Federal Circuit affirmed the 1995 decision of the Federal District Court for the Eastern District of New York awarding the Company $72.7 million in damages, attorney fees and interest from Intermedics Orthopedics, Inc. and its distributor for infringement of the Company's U.S. patent on its OmniFlex Hip System. Intermedics has filed a petition for rehearing or rehearing in banc, which is pending before the Federal Circuit. Until the resolution of the appeal process, management is unable to determine the financial impact of this litigation. Accordingly, the financial statements do not give recognition to any gain which might ultimately be realized as a result of this decision. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS The table below sets forth domestic/international and product line sales information: <TABLE> Three Months Ended Nine Months Ended September 30 September 30 % % 1996 1995 Change 1996 1995 Change -------- -------- ------ --------- -------- ------ (in thousands) Domestic/International Sales <S> <C> <C> <C> <C> <C> <C> Domestic $143,303 $117,794 22 $416,274 $348,172 20 International 80,284 87,569 (8) 250,349 299,713 (16) -------- -------- -------- -------- Total Net Sales $223,587 $205,363 9 $666,623 $647,885 3 ======== ======== ======== ======== Product Line Sales Stryker Surgical $162,270 $146,612 11 $490,117 $447,319 10 Stryker Medical 50,795 38,301 33 142,372 115,134 24 Matsumoto Distributed Products 10,522 20,450 (49) 34,134 85,432 (60) -------- -------- -------- -------- Total Net Sales $223,587 $205,363 9 $666,623 $647,885 3 ======== ======== ======== ======== </TABLE> For the nine months ended September 30, 1996, net sales increased 3% when compared to the same period in 1995. Additional sales attributable to acquired businesses accounted for a 2% sales increase and increased unit volume generated a 5% increase. Net sales also increased 1% as a result of the Company's conversion of certain portions of the Osteonics domestic distribution network to direct sales, which resulted in higher selling prices. These increases were offset by a 4% decrease arising from changes in foreign currency exchange rates and a 1% decline in selling prices. For the third quarter, net sales increased 9% when compared to the third quarter of 1995. Increased unit volume generated a 10% sales increase and additional sales attributable to acquisitions accounted for a 3% sales increase. Net sales also increased 1% due to the conversion of certain portions of the Osteonics distribution network to direct sales. These increases were offset by a 4% decrease arising from changes in foreign currency exchange rates and a 1% decline in selling prices. The Company's domestic sales increased 20% for the first nine months and 22% in the third quarter of 1996 compared to 1995. The increase was led by strong shipments of orthopaedic implants, endoscopic equipment and powered surgical instruments, increased revenue from physical therapy services and higher shipments of hospital beds and stretchers. International sales declined 16% for the first nine months and 8% in the third quarter compared to the same periods of 1995. The decrease in sales is the result of lower sales in Japan which more than offset strong shipments in the other international markets. Sales in Japan declined 34% in the first nine months and 26% in the third quarter because of lower shipments of Matsumoto distributed products, which are sourced from other companies for sale in Japan, and unfavorable currency comparisons. Sales in the other international markets increased 18% in the first nine months and 22% in the third quarter. International sales represented 38% of total sales in the first nine months of 1996 compared to 46% in the same period of 1995. Stryker Surgical product sales (principally orthopaedic products) increased 10% for the first nine months and 11% in the third quarter of 1996 compared to 1995 as a result of higher shipments of orthopaedic implants, endoscopic equipment and powered surgical instruments, offset by lower dollar translation of foreign currency sales. Stryker Medical product sales (principally stretchers/beds and physical therapy services) increased 24% for the first nine months and 33% in the third quarter resulting from higher physical therapy revenues and increased shipments of hospital beds and stretchers. Sales of Matsumoto distributed products, which are products sourced from other companies for sale in Japan, declined 60% in the first nine months and 49% in the third quarter of 1996 compared to the same periods of 1995. These declines result from the termination of several distribution arrangements commencing in the third quarter of 1995 and unfavorable foreign currency comparisons in Japan. Matsumoto has lost three major suppliers who have chosen other distribution channels. Matsumoto has introduced new products to replace two of the lost lines. However, sales of Matsumoto distributed products in the fourth quarter of 1996 are expected to be significantly lower than 1995 levels for the comparable period. The significant decline in sales of Matsumoto Distributed Products does not have as a significant effect on the Company's net earnings because (i) distributed products generally have lower margins, (ii) income taxes are higher in Japan and (iii) the Company's net earnings are reduced by the minority interest in Matsumoto's net earnings. Cost of sales for the first nine months of 1996 represented 41.4% of sales compared to 42.3% in the same period of 1995. In the third quarter, the cost of sales percentage decreased to 42.2% from 43.2% in the third quarter of 1995. Research, development and engineering (R,D&E) expense increased 25% for the first nine months of 1996, and represented 6.1% of sales in 1996 compared to 5.0% in the same period last year. In the third quarter, these expenses increased 47% and were 6.4% of sales in 1996 compared to 4.7% in the third quarter of 1995. The increase in R,D&E expense as a percentage of sales in 1996 is principally a result of increased product development spending measured against the relatively flat sales in 1996 compared to 1995 attributable primarily to lower sales of Matsumoto distributed products in Japan. The Company's commitment to product development has resulted in several new products in late 1995 and early 1996, including the Restoration HA revision hip system, Passport knee instruments, the Insight Knee positioning and alignment system, the battery powered 4100 Cordless driver and several new arthroscopy instruments. Selling, general and administrative (S,G&A) expenses increased 4% in the first nine months and increased 8% in the third quarter of 1996 compared to the same periods of 1995. These costs increased to 35.2% of sales in the first nine months of 1996 compared to 34.9% in the same period of 1995. In the third quarter these costs represented 35.0% of sales in 1996 compared to 35.2% in 1995. The increase in S,G&A costs as a percentage of sales in the first nine months of 1996 is principally a result of higher sales expenses resulting from the changes in Osteonics' distribution network and slightly larger sales forces measured against modest sales increases in 1996. Other income increased $2.9 million for the first nine months and $0.9 million in the third quarter of 1996 compared to the same periods of 1995 principally as a result of increased interest income attributable to higher levels of invested cash and lower interest expense due to favorable currency fluctuations on the Company's yen denominated debt. The effective tax rate decreased to 38% for the first nine months of 1996 compared to 41.4% in the same period of 1995 as a result of the significant decline in earnings reported by Matsumoto, which are taxed at the higher Japanese tax rate. The earnings decline at Matsumoto also led to a significant reduction in minority interest charges for the first nine months as compared to the same period of 1995. As a result of Matsumoto's lower profits, earnings before income taxes and minority interest increased only 2.3%, and net earnings increased 20% for the first nine months of 1996 when compared to the first nine months of 1995. Earnings before income taxes and minority interest increased 8.5% and net earnings increased 20% in the third quarter of 1996 when compared to 1995. LIQUIDITY AND CAPITAL RESOURCES Stryker's financial position at September 30, 1996 remained strong with cash and marketable securities of $250.2 million and working capital of $453.0 million. The Company generated $78.5 million of cash from operations in the first nine months of 1996 compared to $64.5 million of cash in the same period of 1995. Accounts receivable at September 30, 1996 increased 3% from December 31, 1995 while days sales outstanding increased slightly to 67 days from 64 days at December 31, 1995. Inventories at September 30, 1996 increased 14% from December 31, 1995 and days in inventory increased to 152 days from 133 days at December 31, 1995. The Company's inventories grew by 14% due to higher unit volume, the conversion of certain portions of the Osteonics domestic distribution network to direct sales and the additional inventories acquired as a result of the Osteo Holdings AG ("Osteo") acquisition. In September 1996, the Company made a cash payment of $41.5 million to purchase 100% of the outstanding stock of Osteo. During the first nine months of 1996, the Company repurchased 650,000 shares of common stock (after adjustment for the two-for-one stock split) in the open market at a cost of $14.9 million. These purchases brought the total shares repurchased under a December 9, 1993 repurchase authorization by the Company's Board of Directors to 895,000 of the 1,200,000 shares authorized. This repurchase authorization was replaced by a new authorization approved by the Board of Directors on April 24, 1996 for repurchases of up to 1,000,000 split-adjusted shares of common stock. Shares repurchased under the share repurchase programs will be used for employee stock option plans and other corporate purposes. Cash and marketable securities of $250.2 million and anticipated future cash flows from operations are expected to be sufficient to fund future operating and capital requirements. The Company also has unsecured lines of credit with banks totaling $55.4 million, none of which was utilized at September 30, 1996. PART II - OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a)Exhibits -- The exhibit listed below is submitted as a separate section of this report following the signature page: Exhibit (11) Statement Re: Computation of Earnings per Share of Common Stock (b)Reports on Form 8-K -- No reports on Form 8-K were filed during the quarter for which this report is filed. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. STRYKER CORPORATION ------------------------------- (Registrant) October 25, 1996 JOHN W. BROWN - ---------------------------- -------------------------------- Date John W. Brown, Chairman, President and Chief Executive Officer (Principal Executive Officer) October 25, 1996 DAVID J. SIMPSON - ---------------------------- -------------------------------- Date David J. Simpson, Vice President, Chief Financial Officer and Secretary (Principal Financial Officer) EXHIBIT (11)--STATEMENT RE: COMPUTATION OF EARNINGS PER SHARE OF COMMON STOCK Three Months Ended Nine Months Ended September 30 September 30 1996 1995 1996 1995 ----------- ---------- ----------- ---------- Average number of shares [S] [C] [C] [C] [C] outstanding 96,700,000 96,998,000 96,862,000 96,894,000 ----------- ----------- ----------- ---------- Net earnings $24,150,000 $20,130,000 $73,660,000 $61,340,000 =========== =========== =========== =========== Net earnings per share of common stock $.25 $.21 $.76 $.64 ==== ==== ==== ==== Primary: Average shares outstanding 96,700,000 96,998,000 96,862,000 96,894,000 Net effect of dilutive stock options, based on the treasury stock method using average market price 1,485,000 1,530,000 1,490,000 1,600,000 ----------- ---------- ---------- ---------- Total Primary Shares 98,185,000 98,528,000 98,352,000 98,494,000 =========== =========== =========== =========== Fully Diluted: Average shares outstanding 96,700,000 96,998,000 96,862,000 96,894,000 Net effect of dilutive stock options, using the period- end market price, if higher than average market price 1,814,000 1,618,000 1,772,000 1,668,000 ----------- ---------- ---------- ---------- Total Fully Diluted Shares 98,514,000 98,616,000 98,634,000 98,562,000 =========== =========== =========== =========== Note:All share and per share data have been adjusted to reflect the two-for-one stock split effective for shareholders of record on May 10, 1996 as though it had occurred at the beginning of the periods presented. Shares subject to stock options are not included in the earnings per share computation because the present effect thereof is not materially dilutive.